Stimulating mineral exploration

The past 12 months have been a boom time for the world’s mineral producers.

While Australian producers have been a major beneficiary of record commodity prices and fast-tracked expansion of brown (coal) field sites, we are still failing to realise the full potential of our minerals’ industry relative to other major mineral producers, such as Canada.

Although many point to constraints such as infrastructure bottlenecks as the cause of this, at the core of the problem is an under-investment in minerals exploration.

Investment in mineral exploration is highly cyclical. Historically high commodity prices and strong equity markets have resulted in a reversal of the long-term decline in exploration expenditure in Australia. However, for a country that once led the world in such spending, Australia is now ranked number five in terms of exploration expenditure per region, down from number two in 2001.

Put simply, Australia is failing to attract exploration spending, not just from major international mining companies but even from many smaller Australian companies which find better value for their investment overseas. This decline needs to be reversed.

A recent report by the Metals Economics Group in Canada shows that smaller companies account for about half of worldwide exploration expenditure and that this share is even larger at the initial stage of exploration. The fact that smaller companies play such a significant role in exploration points to the need for policies that encourage further investment in these companies. The flow-through share scheme currently in place in Canada is one such policy, and it partly explains why Canada is far in front of Australia in terms of exploration expenditure.

A flow-through share scheme allows the transfer of tax deductions from exploration companies to their individual investors. Exploration companies accumulate losses as they fund continued exploration. These accumulated losses stay on their balance sheets until they can be offset against future revenues. However, given the significant lag time between the commencement of exploration and the discovery of mineral deposits, investors in such exploration companies must wait a long time to get any return on their investment. This is a significant disincentive to invest in such companies.

By allowing the transfer of tax deductions of exploration companies to their individual investors, losses can be transferred to individual investors as they accumulate and these investors can then offset them against their other income. This makes investment in exploration companies much more attractive and makes it easier for such companies to access the capital necessary to undertake such exploration.

Unfortunately, the Federal Resource Minister Ian Macfarlane has on numerous occasions indicated that such a scheme is not favoured by the Federal Government. However, trends in Australia’s mineral industry show that such a scheme is absolutely necessary.

Of the 520 companies listed on the ASX Schedule of Mining, only 22 have exploration projects in their advanced stages and most of these projects are controlled by major mining companies, such as BHP Billiton, Rio Tinto and Newmont. It is well known in the industry that such companies no longer heavily invest in greenfields exploration as it is easier to simply buy into projects that have been undertaken by smaller companies. Indeed, most of the current exploration expenditure by the majors relates to discoveries of iron ore, coal and gas made decades ago.

In an environment of high commodity prices and rising equity markets, one can understand the reluctance to provide added incentives to investors considering investing in greenfields exploration. But this boom will not last indefinitely. If Australia is already struggling to attract expenditure for greenfields exploration in such strong market conditions, then it the industry is in for a shock when market conditions start to weaken.

We cannot simply rely on high commodity prices to stimulate mineral exploration, Australia needs to attract mineral exploration expenditure in a more competitive and aggressive manner. Canada’s flow-through share scheme is one policy that will enable us to do this.